2

Chapter 1

Double-entry bookkeeping: Cash

transactions
This chapter covers part of syllabus section AS Level 1.2

LEARNING INTENTIONS
In this chapter you will learn how to:
• describe how every financial transaction a business makes has two sides to it
• describe how double-entry bookkeeping records both sides of a transaction
• describe how each side of a transaction is recorded in its own ledger account, which has two sides
• describe how cash transactions involve immediate payment
• use ledger accounts to record cash transactions.

ACCOUNTING IN CONTEXT

Keep a record
Millions of new businesses start up every year across the globe. There are around 100 000 registered start-ups in
India and 400 000 in South Africa alone. Whatever the industry or country, every new business should keep a
record of its financial transactions.
Running out of cash is one of the biggest worries of new business owners as it can be the reason for business
failure. Understanding how to record and manage money is a priority for many new business owners.
There is plenty of financial advice available. An internet search will provide information on common financial
issues including opening a bank account, borrowing money and taking care of day-to-day spending. Banks, such
as Barclays and HSBC, offer business accounts to start-ups. Many banks also offer information and advice to help
with planning future income and expenditure and calculating profits.

Figure 1.1: Every new business should keep a record of its financial transactions.

Discuss in a pair or a group:

• What does a new business owner need to know about accounting when they start up?
• Why do banks provide free financial information and advice?
• What other organisations might offer free advice about money?
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1.1 What is double-entry bookkeeping?

Every business uses an accounting system to record its financial transactions. This system can be used to make
decisions or report on the financial performance of the business. The accounting system is based on double-entry
bookkeeping.
For example, you give your friend $5 in exchange for his book. From your point of view, the two sides of this financial
transaction are:
1 you are giving him $5 (one aspect)
2 you are receiving a book worth $5 (the other aspect)
Every transaction involves giving and receiving. It is important that you recognise and record both sides of each
transaction in your bookkeeping. The term double-entry bookkeeping comes from the fact that both sides are recorded.
The two entries to record the two sides are made in ledger accounts.
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1.2 Ledger accounts

Financial transactions are recorded in ledgers in ledger accounts. These accounts are sometimes called T accounts
because each one looks like the capital letter T.

TIP

It is important to remember that every transaction is recorded twice in the double-entry system.

Layout of a ledger account

Account name, e.g. Sales
Debit (dr) Credit (cr)
Date Details Amount $ Date Details Amount $

The two sides of an account separate what is received from what is given. The debit side records what is received into
the account. The credit side records what is given.
When there is a financial transaction, one ledger account will have an entry on the debit side and one account will have
an entry on the credit side. This is how we record financial transactions in the double-entry system.
In a ledger account, the date of a financial transaction is abbreviated with only three letters for the month. For example,
1 April is written Apr 1. The details (or narrative) state where the other entry is recorded.
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1.3 Recording cash transactions

When a financial transaction involves money being paid or received straightaway, it is known as a cash transaction.
Payments and receipts either through the bank account or as notes and coins are all considered cash transactions.
Bookkeeping treats the business as separate from the business owner(s). For example, if Haziq is a trader, all his
financial transactions are recorded as those of the business and not as Haziq’s personal financial transactions.

TIP

All financial transactions are recorded from the point of view of the business, not from those of its customers and
suppliers or the business’s owner.

WORKED EXAMPLE 1

Financial transaction 1
1 April. Haziq starts a business by paying $10 000 into a new business bank account.
The two sides of this transaction are:
1 the business bank account receives $10 000
2 Haziq gives the business $10 000 capital
The double-entry for this transaction is:
1 debit the bank account
2 credit the capital account
To record the transaction the business must first open ledger accounts for capital and bank. Then the following
two double-entry bookkeeping entries are made on 1 April:

Haziq – capital account

Debit (Dr) Credit (Cr)
$ $
Apr 1 Bank 10 000 [2]
Notes:
[1] The business has received $10 000, which has been paid into the business bank account, hence that account
has been debited.
[2] Haziq has given the business $10 000, hence his capital account has been credited.
Entries in ledger accounts are known as postings, and bookkeepers are said to ‘post’ financial transactions to the
accounts.
Financial transaction 2
2 April. Haziq buys a motor vehicle for the business and pays $2 000 from the business’s bank account.

TIP

In Worked example 1, financial transactions are all recorded in ledger accounts.

The two sides of this transaction are:

1 the business receives a $2 000 motor vehicle
2 the business bank account gives (pays out) $2 000
The double-entry for this transaction is:
1 debit the motor vehicle account
2 credit the bank account
The bank account already exists and a motor vehicles account must be opened. Then the following two
bookkeeping entries are made on 2 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000

Motor vehicles account

Debit Credit
$ $
Apr 2 Bank 2 000
Financial transaction 3
3 April. Haziq buys goods that he will resell in the normal course of trade for $3 000 and pays out of the business
bank account by debit card.
The two sides of this transaction are:
1 the purchases account receives $3 000 of goods
2 the bank account gives $3 000
The double-entry for this transaction is:
1 debit the purchases account
2 credit the bank account
A purchases account must be opened to record the goods being bought. Then the following two bookkeeping
entries are made on 3 April.
 6

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 3 Purchases 3 000

Purchases account
Debit Credit
$ $
Apr 3 Bank 3 000
Financial transaction 4
4 April. Haziq sells a quantity of the goods for $800 and pays the money into the bank.
The two sides of this transaction are:
1 the bank account receives $800
2 the sales account gives $800 of goods to customers
The double-entry for this transaction is:
1 debit the bank account
2 credit the sales account
A sales account must be opened to record the goods being sold. Then the following two bookkeeping entries are
made on 4 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000

Sales account
Debit Credit
$ $
Apr 4 Bank 800
Financial transaction 5
7 April. A customer returns some goods and receives a refund of $40.
The two sides of this transaction are:
1 the sales returns (returns inwards) account receives $40
2 the bank account gives $40 to the customer
Hence the double-entry for this transaction is:
1 debit the sales returns (returns inwards) account
2 credit the bank account
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TIP
Remember that sales returns are sometimes referred to as returns inwards and purchase returns are sometimes
referred to as returns outwards.

A sales returns account must be opened to record the goods being returned to the business from a customer. This
account is also known as the returns in account. Then, the following two bookkeeping entries are made on 7 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 7 Sales returns 40

Sales returns account

Debit Credit
$ $
Apr 7 Bank 40
Note: goods returned from a customer are debited to the sales returns account, not the sales account.
Financial transaction 6
8 April. Haziq returns some goods costing $100 to a supplier and receives a refund.
The two sides of this transaction are:
1 the bank account receives $100
2 the purchase returns (returns outwards) account gives $100 of goods back to the supplier
The double-entry for this transaction is:
1 debit the bank account
2 credit the purchase returns (returns outwards) account
A purchase returns account must be opened to record the goods being returned to the supplier. This account is also
known as the returns out account. Then, the following two bookkeeping entries are made on 8 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40

Purchase returns account

Debit Credit
$ $
 Apr 8 Bank 100
Note: goods returned to a supplier are debited to the purchase returns account, not the purchases account.

8
Financial transaction 7
10 April. Haziq buys another motor vehicle for the business and pays $4 000 by cheque.
This financial transaction is similar in nature to transaction 2 on 2 April.
The double-entry for this transaction is:
1 debit the motor vehicle account
2 credit the bank account
No new ledger accounts need to be opened for this financial transaction as the business already has both a motor
vehicle account and a bank account. The following two bookkeeping entries are made on 10 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 10 Motor vehicles 4 000

Motor vehicles account

Debit Credit
$ $
Apr 2 Bank 2 000
Apr 10 Bank 4 000
An account is a history of all financial transactions of a similar nature. Therefore, it is not necessary to open
another account for the second motor vehicle. Similarly, all purchases of office equipment are posted to the office
equipment account, and all purchases of office furniture are posted to the office furniture account.
Financial transaction 8
11 April. Tania lends the business $5 000. Haziq pays the money into the business bank account.
The two sides of this transaction are:
1 the bank account receives $5 000
2 the loan from Tania account gives $5 000 to the business
The double-entry for this transaction is:
1 debit the bank account
2 credit the Tania – loan account

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A loan account specific to Tania must be opened. Then, the following two bookkeeping entries are made on 11
April.
 Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 11 Tania – loan 5 000 Apr 10 Motor vehicles 4 000

Tania – loan account

Debit Credit
$ $
Apr 11 Bank 5 000
Separate loan accounts are needed for each lender. If Tania lends the business more money in the future, another
entry can be made into the ‘Tania – loan account’. However, if Kim also lends money to Haziq’s business, a new
‘Kim – loan account’ must be opened.
Financial transaction 9
12 April. Haziq pays rent for a warehouse by debit card, $1 000.
The two sides of this transaction are:
1 the rent payable account receives $1 000
2 the bank account gives $1 000 for use of the warehouse
Hence the double-entry for this transaction is:
1 debit the rent payable account
2 credit the bank account
A rent account must be opened. This account is also known as the rent payable account. Then, the following two
bookkeeping entries are made on 12 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 11 Tania – loan 5 000 Apr 10 Motor vehicles 4 000
Apr 12 Rent payable 1 000

Rent payable account

Debit Credit
$ $
Apr 12 Bank 1 000

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Financial transaction 10
14 April. Haziq rents part of the warehouse to his friend Lee and receives a cheque for $300 for the rent. This is
paid into the business bank account.
The two sides of this transaction are:
1 the bank account receives $300
2 the rent receivable account gives $300 of warehouse space to Lee
Hence the double-entry for this transaction is:
1 debit the bank account
2 credit the rent receivable
A rent received account must be opened. Then, the following two bookkeeping entries are made on 14 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 11 Tania – loan 5 000 Apr 10 Motor vehicles 4 000
Apr 14 Rent receivable 300 Apr 12 Rent payable 1 000

Rent receivable account

Debit Credit
$ $
Apr Bank 300
Financial transaction 11
15 April. Haziq pays wages by bank transfer, $1 200.
The two sides of this transaction are:
1 the wages account receives $1 200
2 the bank account gives $1 200 to the staff for wages
The double-entry for this transaction is:
1 debit the wages account
2 credit the bank account

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A wages account must be opened. Then, the following two bookkeeping entries are made on 15 April.

Bank account
Debit Credit
$ $
 Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 11 Tania – loan 5 000 Apr 10 Motor vehicles 4 000
Apr 14 Rent receivable 300 Apr 12 Rent payable 1 000
Apr 15 Wages 1 200

Wages account
Debit Credit
$ $
Apr 15 Bank 1 200
Financial transaction 12
16 April. Haziq withdraws $600 from the business bank account for personal use.
The two sides of this transaction are:
1 the drawings account receives $600
2 the bank account gives $600 to Haziq
Hence the double-entry for this transaction is:
1 debit the drawings account
2 credit the bank account
A drawings account must be opened. Then, the following two bookkeeping entries are made on 16 April.

Bank account
Debit Credit
$ $
Apr 1 Haziq – capital 10 000 Apr 2 Motor vehicles 2 000
Apr 4 Sales 800 Apr 3 Purchases 3 000
Apr 8 Purchase returns 100 Apr 7 Sales returns 40
Apr 11 Tania – loan 5 000 Apr 10 Motor vehicles 4 000
Apr 14 Rent receivable 300 Apr 12 Rent payable 1 000
Apr 15 Wages 1 200
Apr 16 Drawings 600

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Drawings account
Debit Credit
$ $
Apr 16 Bank 600
Note: money drawn out of a business by the owner for personal use is debited to a drawings account, not to the
owner’s capital account (see Chapter 8 for explanation of drawings).

KEY CONCEPT LINK

Business entity: The accounting records for a business consider the financial transactions from the business’s
point of view. As a result, money put into the business by the owner is treated as capital for the business and
money taken out of the business for personal spending by the owner is treated as drawings.

ACTIVITY 1.1

Here are the financial transactions for Faris’s new business. Open the necessary ledger accounts and post the
following financial transactions to them. All financial transactions use the bank account.
June
1 Faris started a business by paying $14 000 into his business bank account.
Prisha lent the business $5 000.
Faris then had the following financial transactions:
2 Purchased equipment for business use, $10 000.
3 Paid rent, $700.
4 Paid wages, $600.
5 Purchased good to resell, $2 000.
6 Sold some goods for $1 500.
7 Refunds money to customer for goods returned, $300.
8 Returns goods to supplier and receives refund, $500.
9 Faris takes $400 out of the bank account for personal use.

REFLECTION

When answering Activity 1.1, how did you decide the account to debit and the account to credit? Did you get the
account names correct? Were any of your debit and credit entries the wrong way round? If so, can you think of
how to learn the correct debits and credits for the future?

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ACTIVITY 1.2

Complete the entries for the following table with information taken from the accounts of a trader:

Name of account(s) Name of account(s)

to debit to credit
1 Paid rent by cheque.
2 Postage and stationery paid by cheque.
3 Telephone bill paid from the bank account by standing order
[1].
 4 Heating and lighting bill paid from the bank account by
standing order.
5 Paid wages by cheque.
6 Rent received directly into the bank account.
7 Bank interest received into the bank account.
8 Business owner takes money out of the bank account for
personal expenses.
9 Loan received from a friend, Lee.
10 Loan repayment made on the loan from Lee.
11 Purchases paid by debit card.
12 Sold goods and banked the takings.
13 Returned goods to supplier and banked the refund.
14 Refunded money to customer by cheque for goods returned.
15 Carriage inwards [2] paid by cheque.
16 Carriage outwards [3] paid by cheque.
Notes:
[1] A standing order is a regular direct payment from a bank account.
[2] Carriage inwards is the delivery cost of bringing the goods from the supplier to the business.
[3] Carriage outwards is the cost of delivering goods to a customer (see Chapter 7 for explanation of carriage
inwards and carriage outwards).

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THINK LIKE AN ACCOUNTANT

Do you track your own finances?

Studying accounting sometimes makes people think more carefully about their own personal finances. Just as a
business has lots of receipts and payments going in and out of its bank account, so too do many of us. Keeping
track of our own personal income and spending habits can help us make more informed decisions about our
finances. We may be less likely to run out of money.
You could set up your own double-entry accounts on paper or a spreadsheet. Alternatively, there are apps
available to track personal spending. Is this something you do already? If not, you could try it for a month to see
how useful it is.

Figure 1.2: Keeping track of our own spending habits can help us make more informed decisions about our
personal finances.
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PRACTICE QUESTIONS
1 Which of the following financial transactions is most likely to require a debit entry in the bank account?
A purchases
B rent receivable
C sales returns
D wages [1]
2 Amir bought goods for resale and paid for the goods to be delivered. Which entries in Amir’s books record
the delivery cost?
Debit account Credit account
A bank carriage inwards
B bank carriage outwards
C carriage inwards bank
D carriage outwards bank [1]
3 A trader takes money from the business bank account for personal use. Which entries record this in his
books?
Debit account Credit account
A bank capital
B bank drawings
C capital bank
D drawings bank [1]

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4 Below are the financial transactions for Mira’s new business. Open the necessary ledger accounts and post
the following financial transactions to them. All transactions use the bank account.
June
1 Mira commenced business by paying $20 000 into her business bank account.
Mira then had the following financial transactions:
2 Purchased machinery, $12 000.
3 Paid rent for office space, $1 200.
4 Bought goods for resale, $4 000.
Paid carriage inwards for delivery of goods supplied, $30.
5 Sold some goods for $3 500.
6 Paid for heating and lighting, $200.
7 Received rent for subletting part of the office, $300.
8 Bought more machinery, $800.
9 Bought more goods for resale, $2 000.
10 Sold goods, $2 050.
 Paid carriage outwards for delivery to customer, $50.
11 Repaid by cheque to customers for goods returned, $100.
12 Bank interest received, $10. [16]
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SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Explain that every financial transaction a business makes has two sides to it.
Explain that double-entry bookkeeping records both sides of a financial
transaction.
Explain that each side of a financial transaction is recorded in its own ledger
account, which has two sides.
Explain that cash transactions involve immediate payment.
Use ledger accounts to record cash transactions.
 16

Chapter 2

Double-entry bookkeeping:
Credit transactions
This chapter covers part of syllabus section AS Level 1.2

LEARNING INTENTIONS
In this chapter you will learn how to:
• use ledger accounts to record credit transactions and their payment
• distinguish between trade and cash discounts and record them in the ledger accounts
• distinguish between discounts allowed and discounts received and how to record each in the appropriate
account.

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ACCOUNTING IN CONTEXT

Buy now, pay later

7-Eleven is the largest chain of grocery and convenience stores in the world. It has thousands of outlets
throughout North America, Asia, Europe and Australia and serves millions of customers. It sells a huge range of
products from basics such as bread and milk to mobile phone accessories and newspapers.
Many manufacturers of convenience products are keen to have 7-Eleven as their customer. 7-Eleven selects its
suppliers carefully so that it can ensure its stores are stocked with products that consumers would like to buy.
7-Eleven’s customers must pay for the goods they buy immediately; sales are cash transactions. Suppliers to
convenience stores such as 7-Eleven do not usually get paid immediately. Typically, there is a 30- to 60-day delay
between the supplier supplying the goods and the supplier receiving payment for those goods. These purchases
are credit transactions.
Credit transactions for both sales and purchases happen across industries especially when selling regularly to
other businesses. Suppliers to 7-Eleven stores in Malaysia alone can be collectively owed more than $80 million
at any one time. This delay in paying suppliers is common business practice in retailing.

Figure 2.1: 7-Eleven is the largest global grocery and convenience store chain.

Discuss in a pair or a group:

• Why does 7-Eleven require immediate payment from its customers?
• Why does 7-Eleven expect to delay payment to its suppliers?
• Why are credit transactions more common when selling to other businesses rather than to individuals?
 17

2.1 What are credit transactions?

Businesses do not always require their customers to pay immediately for the goods they buy. Sometimes customers are
allowed to pay a few days, weeks or even months later. When a purchase occurs but the payment happens later, it is
known as a credit transaction.
For example, Lai sells goods to Chin for $500 on 31 May and gives Chin until 30 June to pay. The transaction is on
credit, i.e. a credit transaction. The sale has taken place on 31 May and must be recorded in Lai’s books of account at
that date. No entries to record payment are made in Lai’s books until the day that Chin pays Lai.
 17

2.2 Recording credit transactions

A sale on credit is credited to the sales account and debited to an account in the customer’s name. The customer who
owes the business money is a trade receivable. When the customer (trade receivable) pays, their account is credited
and the bank account debited.
A credit purchase is debited to a purchases account and credited to an account in the supplier’s name. The supplier that
the business owes money to is a trade payable. When the supplier (trade payable) is paid, their account is debited and
the bank account credited.

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WORKED EXAMPLE 1

Lai owns a business that buys and sells on credit. This example shows Lai’s ledger accounts.
Transaction 1: sales
31 May. Lai’s business sells goods to Chin for $500 and gives Chin until 30 June to pay.
This sale is a credit transaction because the customer does not pay immediately on May 31. Instead, Lai’s business
is owed money by the customer, Chin, who becomes a trade receivable.
In Chapter 1 we saw that where sales are paid for immediately (a cash transaction) we debit the bank account and
credit the sales account. However, for a credit sale the debit will not be to the bank account. Instead, it is entered
in an account for the customer.
The double-entry for this transaction is:
1 debit Chin’s account
2 credit the sales account
The following two double-entry bookkeeping entries are made on 31 May.

Chin account
Debit Credit
$ $
May 31 Sales 500

Sales account
Debit Credit
$ $
May 31 Chin 500
The debit entry in Chin’s account shows that he is a trade receivable in Lai’s books; Chin owes Lai $500 until he
pays for the goods.
Transaction 2: purchases
31 May. Lai’s business buys goods from Yan for $400 and is given until 30 June to pay. This purchase is a credit
transaction because the supplier is not paid immediately on May 31. Instead Lai’s business owes money to the
supplier, Yan, a trade payable.

TIP
 If a business buys on credit, check whether it is buying goods for resale. If the goods are for resale then they
are entered into the purchases account. If the business buys something such as machinery, then it is entered into
the machinery account.

For a credit purchase, the credit is entered in the supplier’s account.

The double-entry for this transaction is:
1 debit the purchases account
2 credit Yan’s account
The following two bookkeeping entries are made on 31 May.

Yan account
Debit Credit
$ $
May 31 Purchases 400

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Purchases account
Debit Credit
$ $
May 31 Yan 400
The credit entry in Yan’s account shows that he is a trade payable in Lai’s books; Lai owes Yan $400 until he pays
for the goods.
Transaction 3: sales returns
4 June. Lai’s customer, Chin, returns goods costing $100 to Lai because they are damaged.
This sales return (returns inwards) is on the credit sale made on 31 May. Hence, on 4 June Lai’s business does not
give the customer any cash. Instead the customer, Chin, will now owe Lai’s business less money.
We saw in Chapter 1 that where sales returns come from cash sales, we debit the sales returns account and credit
the bank account. For a sales return from a credit sale, the credit is entered in the supplier’s account instead of the
bank account.
The double-entry for this transaction is therefore:
1 debit sales returns account
2 credit Chin’s account
The following two bookkeeping entries are made on 4 June.

Sales returns account

Debit Credit
$ $
Jun 4 Chin 100

Chin account
Debit Credit
$ $
 May 31 Sales 500 Jun 4 Sales returns 100
Transaction 4: purchase returns
5 June. Lai’s business returns goods costing $200 to the supplier, Yan, because they are the wrong size.
This purchase return (returns outwards) is on the credit purchase made on 31 May. Hence, on 5 June Lai’s
business does not receive cash from the supplier. Instead, Lai’s business will owe the supplier, Yan, less money.

20
For a purchase return from a credit purchase, the debit is entered in the supplier’s account.
The double-entry for this transaction is:
1 debit Yan’s account
2 credit purchases returns account
The following two bookkeeping entries are made on 5 June.

Yan account
Debit Credit
$ $
Jun 5 Purchases returns 200 May 31 Purchases 400

Purchases returns account

Debit Credit
$ $
Jun 5 Yan 200
 20

2.3 Recording payments for credit transactions

Goods bought or sold on credit must eventually be paid for. Customers that buy on credit may be given a month or
even longer to pay. The sale is recorded on the day of the sale. The payment is recorded later when the money is
received.
Purchases on credit are treated in a similar way with the purchase being recorded on the day of the purchase. The
payment is recorded later when the payment is made.

WORKED EXAMPLE 2

(continuing from Worked example 1)

Transaction 5: receipts from credit customers
6 June. Chin pays all money owed on 6 June.
Chin pays Lai’s business $400 ($500−$100).
Therefore, Chin’s account gives $400 and the bank account receives $400.
The double-entry for this transaction is:
1 debit the bank account
2 credit Chin’s account
The following two bookkeeping entries are made on 6 June.
Extract of the bank account:

Bank account
Debit Credit
$ $
Jun 6 Chin 400

21

Chin account
Debit Credit
$ $
May 31 Sales 500 Jun 4 Sales returns 100
Jun 6 Bank 400
Transaction 6: payments to suppliers for goods bought on credit
7 June. Lai’s business pays Yan all money owed on 7 June.
Lai pays Yan $200 ($400−$200).
Therefore, the bank account gives $200 and Yan’s account receives $200.
The double-entry for the payment to Yan of $200 is:
1 debit Yan’s account
2 credit the bank account
The following− two− bookkeeping entries are made on 7 June.
Extract of the bank account:

Bank account
Debit Credit
$ $
Jun 7 Yan 200

Yan account
Debit Credit
$ $
Jun 5 Purchases returns 200 May 31 Purchases 400
Jun 7 Bank 200
 21

2.4 Discounts
A customer may be allowed to pay less than the selling price for the goods they have bought. This is called a discount.
There are two types of discount:
1 trade discount
2 cash (or settlement) discount

TIP

Trade discounts are used to calculate the value of a sale and are not recorded separately in ledger accounts.

Trade discount
A trade discount is typically given where the buyer and seller are in the same line of business. It is given as a
percentage reduction from the normal price of a product.
Businesses may choose to offer trade discounts when a customer buys a large volume of goods. Businesses may also
offer trade discounts to a customer that buys goods regularly or frequently. As a result, customers may be encouraged to
buy more goods or to buy more often, and so increase sales for the business.
For example, goods that Lai’s business sold to Chin for $500 may have been sold normally for $625. Chin has been
given a trade discount of $125 (20% of $625). Although the normal price of the goods was $625, the transaction was
for $500 and only $500 is entered into the ledger accounts.

22

A trade discount is used to calculate the value of a sale, but it is not recorded separately in ledger accounts.

Cash (or settlement or prompt payment) discount

A cash (or settlement) discount is given to encourage a customer to pay quickly.
For example, Lai has given Chin one month to pay for the goods sold to him. Lai offers Chin a 5% cash discount on the
amount due if Chin pays within seven days of the sale.

WORKED EXAMPLE 3

Transactions 5 and 6 would look very different if cash discounts had been allowed as shown next.
Alternative transaction 5: receipts with discounts allowed
6 June. Suppose Lai has allowed Chin a cash discount of 5% provided Chin pays by 7 June. Chin pays on 6 June.
When a customer pays for the goods they previously bought, we need to record the payment in the ledger
accounts. If a cash discount is given then we must record this too. This is recorded in a discounts allowed
account.

TIP
Cash discounts taken are always recorded in ledger accounts at the payment date.

Before the cash discount Chin owes Lai $400 ($500−$100).

Chin meets the condition of the cash discount by paying on 6 June.
The cash discount is 5% of $ 400 = $20.
He will therefore pay only $380 ($400−$20).
The double-entry for the receipt from Chin of $380 is:
1 debit the bank account
2 credit Chin’s account
The double-entry for the $20 discount allowed is:
1 debit the discounts allowed account
2 credit Chin’s account
The following four bookkeeping entries are made on 6 June.
Extract of the bank account:

Bank account
Debit Credit
$ $
Jun 6 Chin 380

Discounts allowed account

Debit Credit
$ $
Jun 6 Chin 20

Chin account
Debit Credit
$ $
May 31 Sales 500 Jun 4 Sales returns 100
Jun 6 Bank 380
Jun 6 Discounts allowed 20

23
Alternative transaction 6: payments with discounts received
7 June. Suppose Lai’s supplier, Yan, has allowed Lai a cash discount of 5% provided Lai pays by 7 June, and Lai
pays Yan on 7 June.
When a supplier is paid for goods they previously purchased, we need to record the payment in the ledger
accounts. If a cash discount is given then we must record this too, in a discounts received account.
Before taking the cash discount, Lai owes Yan $200 ($400−$200).
Lai meets the condition of the cash discount by paying on 7 June.
The cash discount is 5% of $200−$10.
She will therefore pay only $190 ($200−$10).
The double-entry for the payment to Yan of $190 is:
1 debit Yan’s account
2 credit the bank account
The double-entry for the $20 discount received is:
1 debit Yan’s account
2 credit the discount received account

TIP

Note carefully whether a cash discount is to be deducted from settlements; that checks whether one is being
offered and whether the time condition has been met.

The following four bookkeeping entries are made in Lai’s business accounts on 7 June.

Bank account
Debit Credit
$ $
Jun 7 Yan 190

Yan account
Debit Credit
$ $
Jun 5 Purchase returns 200 May 31 Purchases 400
Jun 7 Bank 190
Jun 7 Discount received 10

Discounts received account

Debit Credit
$ $
Jun 7 Yan 10

KEY CONCEPT LINK

Duality (double-entry): Where there is a payment with a cash discount applied, we need to recognise that two
transactions are actually taking place: the payment itself and the cash discount. As a result, there are four entries
in the ledger accounts.

24

ACTIVITY 2.1

Below are the financial transactions for Max’s business. Post the transactions to the ledger accounts. All goods are
bought and sold on credit.

October 1 Purchased goods from Tina that cost $2 000.

2 Sold goods to Ali for $300.
4 Returned goods to Tina that had cost $200.
8 Purchased goods from Lim that cost $2 400.
9 Sold goods to Omar for $1 100.
10 Returned goods to Tina that had cost $100.
11 All goods sold to Ali have been returned.

ACTIVITY 2.2

Below are the financial transactions for Peng’s business. Post the transactions to the ledger accounts. All goods
are bought and sold on credit.

November 1 Bought goods from Ting that cost $5 000 less trade discount of 15%.
5 Sold goods to Li for $1 000.
10 Returned goods costing $500 less discount to Ting.
15 Purchased goods from Wei that cost $4 800 before trade discount of 20%.
20 Paid Ting all money owed.
Paid Wei for goods bought on 15 November.
25 Received full payment from Li.

ACTIVITY 2.3

Complete the entries for the following table.

Name of account(s) Name of account(s)

to debit to credit
1 Sell goods to Diya on credit.
2 Buy machinery for use by the business on credit from Joints
Ltd.
3 Purchase goods on credit from Alan. Trade discount
received.
4 Return goods bought on credit to Alan.
5 Goods bought on credit returned by Diya.
6 Return goods to a supplier and bank refund.
7 Refund money to a customer by cheque for goods returned.
8 Pay Joints Ltd for goods bought.
9 Receive full payment from Diya less cash discount.
10 Pay Alan for goods bought less cash discount.

REFLECTION

When completing Activity 2.3 how did you decide which account to debit and which account to credit? Did you
think about which account ‘gives’ value and which ‘receives’ value?
Discuss your approach in pairs or small groups.

25

ACTIVITY 2.4
Zoe’s business usually sells to the general public. A new business customer is interested in buying from her but
wants to buy on credit.
Discuss in a small group the factors Zoe should consider when deciding whether to agree to sell on credit.

THINK LIKE AN ACCOUNTANT

Who do we trust with money?

Trust is important where money is involved. Buying and selling on credit between businesses is common business
practice. It can be very useful, but it can be risky for a business to sell goods one day but then wait a month before
receiving payment from the customer. How can the business be certain that the customer will pay? Can the
customer afford to pay? Is the customer trustworthy or might they try to avoid paying?
If you were selling one of your personal possessions, would you insist on immediate payment? If so why? If not,
are there any circumstances where you might be willing to allow payment to be delayed, e.g. the value of the
possession, how well you know the buyer or if you have made a written agreement? Why might this make a
difference?

Figure 2.2: If you were selling one of your personal possessions, would you insist on immediate payment?
 25

PRACTICE QUESTIONS
1 Which of the following transactions is most likely to require a credit entry in the bank account?
A cash discount
B cash sales
C payment by a customer
D payment to a supplier [1]
2 Jose bought goods on credit from Maria for $200 less trade discount of $30. Which entries record this
transaction in Jose’s books?
Account(s) to be debited Account(s) to be credited

A A Purchases $170 Maria $170

B Purchases $170 Discounts allowed $30 Maria $200
C Purchases $200 Maria $200
D Purchases $200 Maria $170

Discounts received $30 [1]

26

3 Myra sold goods on credit to Zara on 1 July. The goods are priced at $1 000 but Myra allowed Zara a trade
discount of 10% and offered a cash discount of 2% if she pays within seven days.
Which entries record this transaction in Myra’s books on 1 July?

Account(s) to be debited Account(s) to be credited

A Zara $880 Sales $880
B Zara $882
Discounts allowed $18 Sales $900
C Zara $882 Sales $882
D Zara $900 Sales $900 [1]
4 Below are financial transactions for Rachael’s business. Post all the transactions to the ledger accounts. All
goods were purchased on credit.
January 1 Purchases from Yun: $800 less trade discount of 15%.
5 Purchases from Liyna: $1 000 less trade discount of 10%.
6 Returns to Liyna of $200 less trade discount.
9 Rachael settled her account with Liyna and was allowed 2% cash discount.
23 Rachael settled her account with Yun but was too late to receive a cash discount. [10]
 26

SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Explain that credit transactions involve buying now and paying later.
Explain that trade discounts are given by one trader to another.
Explain that cash discounts taken are recorded in the accounts on the date of
payment.
Use ledger accounts to record credit transactions and their payment.
Explain the difference between discounts allowed and discounts received and
how to record each in the appropriate account.
 27

Chapter 3

Books of prime entry

This chapter covers part of syllabus section AS Level 1.2

LEARNING INTENTIONS
In this chapter you will learn how to:
• demonstrate that financial transactions are recorded in the books of prime entry before being posted to the
ledger accounts
• demonstrate when to use the books of prime entry: the sales and sales returns journals, purchases and
purchases returns journals, cash book and the journal
• demonstrate the purpose of a cash book
• demonstrate that cash discounts are recorded in the cash book then posted to the discounts allowed and
discounts received ledger accounts
• demonstrate that contra entries are made in the cash book when money is transferred between the bank
account and the cash account
• enter the transactions in the books of prime entry and post to the ledger from the books of prime entry
• record discounts allowed and discounts received in the cash book and ledger accounts.

28

ACCOUNTING IN CONTEXT

Cash or card?
Many small businesses use cash but also have a bank account. In Pakistan, cash is widely used by individuals and
by many of its 3 million small- and medium-sized businesses. However, there has been a trend towards bank
accounts and less reliance on cash.
A number of banks offer current accounts and other financial services to meet the banking needs of business
customers. Habib Bank (HBL) is one such bank operating in Pakistan. It offers business customers a bank account
designed for their needs, called the business freedom account. This account includes free cash withdrawals and
deposits as well as a debit card so payments can be made directly from the bank account. This means that
businesses that buy and sell using cash can put their money into a bank account regularly.

Figure 3.1: Many small businesses use cash but also have a bank account.

Discuss in a pair or a group:

• Which types of financial transaction do you think are mostly likely to involve cash?
• Why might small businesses regularly transfer money in and out of bank accounts?
 28

3.1 What is a book of prime entry?

In Chapters 1 and 2, financial transactions were posted straight to the ledger accounts using double-entry bookkeeping.
In practice, businesses have an additional step between the transaction and the ledger accounts. This additional step
involves entering transactions into one of the books of prime entry.

The books of prime entry are:

1 Sales journal
2 Sales returns journal
3 Purchases journal
4 Purchases returns journal
5 Cash book
6 Journal.
 29

3.2 Using books of prime entry

Sales
When there is a credit sale, an invoice is issued to the customer. The invoice confirms that the customer must pay for
the goods or services that the business has supplied and it states the amount owed and the payment deadline.
Once the invoice has been sent, an entry is made in the sales journal to record the sale.

WORKED EXAMPLE 1

Khor has sent the following invoices:

Invoices sent to customers Amount of invoice

$
6 Sep Anna 400
8 Sep Baron 350
9 Sep Anna 250
The invoices are entered into the sales journal. The sales journal is totalled periodically (weekly or monthly). The
more entries a business has, the more frequently the sales journal is likely to be totalled. For example:

Sales journal
$
6 Sep Anna 400
8 Sep Baron 350
9 Sep Anna 250
12 Sep 1 000

Posting from the sales journal to the ledger accounts

Each item in the sales journal is posted to the corresponding customer’s ledger account following the procedure
shown in Chapter 2.
Individual items are not posted to the sales account. Instead, the total of the sales journal is posted to the sales
account.

Anna account
Debit Credit
$ $
Sep 6 Sales 400
Sep 9 Sales 250

Baron account
Debit Credit
$ $
 Sep 8 Sales 350

30

Sales account
Debit Credit
$ $
Sep 12 Sales journal 1 000
Note: the detail given in the sales account is the ‘sales journal’. This signals that the figure of $1 000 is the sum of
numerous individual sales, as listed in the sales journal.

By using a sales journal, the number of entries that must be made in the sales account is reduced. In the example, there
are three debit entries (in customer accounts) but only one credit entry (in the sales account). This meets the double-
entry requirement because the total values of the debits and credits are the same.

KEY CONCEPT LINK

Duality: Once a journal entry has been made the next step is to use the double-entry system by entering the
debit(s) and credit(s) into the ledger accounts.
Look closely at the dates recorded in the ledger accounts. Why are the dates entered in the customers’ accounts
those of when each sale took place? Why is the date in the sales account when the sales journal is totalled?

Sales returns
If a credit sale is returned, a credit note is issued to the customer that shows the amount credited to the customer’s
account for the return.
Once the credit note is sent, an entry is made in the sales returns journal to record the sales return.

WORKED EXAMPLE 2

Khor has sent the following credit notes:

Credit notes sent to customers Amount of credit note

$
7 Sep Anna 350
9 Sep Baron 100
9 Sep Anna 50
The credit notes are entered into the sales returns journal and totalled on 12 September.

Sales returns journal

$
7 Sep Anna 350
9 Sep Baron 100
9 Sep Anna 50
 12 Sep 500

31
Posting from the sales returns journal to the ledger accounts
Each item in the sales returns journal is posted to the corresponding customer’s ledger account. The total of the
sales returns journal is posted to the sales returns account.

Anna account
Debit Credit
$ $
Sep 6 Sales 400 Sep 7 Sales returns 350
Sep 9 Sales 250 Sep 9 Sales returns 50

Baron account
Debit Credit
$ $
Sep 8 Sales 350 Sep 9 Sales returns 100

Sales returns account

Debit Credit
$ $
Sep 12 Sales returns journal 500

Purchases
When a purchase is made on credit, an invoice is received from the supplier, which confirms that the business must pay
for the goods or services supplies and states the amount owed and the payment deadline.
All invoices received from suppliers are entered into the purchases journal to record the purchase.

WORKED EXAMPLE 3

Khor has received the following invoices:

Invoices received from suppliers Amount of invoice

$
2 Sep Marc 500
5 Sep Sam 200
7 Sep Marc 400
The invoices are entered into the purchases journal and totalled on 12 September:

Purchases journal
$
2 Sep Marc 500
 5 Sep Sam 200
7 Sep Marc 400
12 Sep 1 100

TIP

Never record cash discounts in sales or purchases journals.

32
Posting from the purchases journal to the ledger accounts
Each item in the purchases journal is posted to the corresponding supplier’s ledger account. The total of the
purchases journal is posted to the purchases account.

Marc account
Debit Credit
$ $
Sep 2 Purchases 500
Sep 7 Purchases 400

Sam account
Debit Credit
$ $
Sep 5 Purchases 200

Purchases account
Debit Credit
$ $
Sep 12 Purchases journal 1 100

Purchases returns
If a business returns purchases made on credit to a supplier a credit note is received from the supplier that shows the
amount entered to the supplier’s account for the return.
Once the credit note is received, an entry is made in the purchases returns journal to record the return.

WORKED EXAMPLE 4

Khor has received the following credit notes:

Credit notes received from suppliers Amount of credit note

$
6 Sep Marc 100
 7 Sep Sam 200
The credit notes are entered into the purchases returns journal and totalled on 12 September:

Purchases returns journal

$
6 Sep Marc 100
7 Sep Sam 200
12 Sep 300

33

TIP

Note whether an invoice or credit note is sent or received. This will help you to recognise the correct book of
prime entry for each purchase, sale or returns transaction.

Posting from the purchases returns journal to the ledger accounts

Each item in the purchases returns journal is posted to the corresponding supplier’s ledger account. The total of
the purchases returns journal is posted to the purchases returns account.

Marc account
Debit Credit
$ $
Sep 6 Purchases returns 100 Sep 2 Purchases 500
Sep 7 Purchases 400

Sam account
Debit Credit
$ $
Sep 6 Purchases returns 200 Sep 5 Purchases 200

Purchases returns account

Debit Credit
$ $
Sep 12 Purchases returns 300
journal

One of the advantages of using books of prime entry is to cut down on the number of individual entries in some ledger
accounts. By posting only the totals of the sales, sales returns, purchases and purchases returns journals to the ledger,
the numbers of entries in the sales, sales returns, purchases and purchases returns accounts are reduced.
As all transactions of a similar type are grouped together, it makes it easier to track them into their accounts in the
ledger. This also works the other way; if there is an error in posting to the ledger account, it is easier to track it back to
the appropriate book of prime entry.
 33

3.3 The cash book

Some businesses put all their payments and receipts through the bank account. Other businesses make some payments
and receipts through a bank account and some using cash.
In Chapters 1 and 2, when money was received or paid we only used the bank account. Now we will look closely at
businesses that use both cash and bank accounts.
For example, an ice cream seller makes the following transactions:

1 Jul Purchases $100 of goods for resale by debit card (a payment card that allows money to be taken
directly from the bank account).

Sales of $150 in cash.

Pays wages of $60 in cash.

2 Jul Puts all cash into bank account.

34

The entries in the bank account and cash account are:

Bank account
Debit Credit
$ $
Jul 2 Bank 90 Jul 1 Purchases 100

Cash account
Debit Credit
$ $
Jul 1 Sales 150 Jul 1 Wages 60
Jul 2 Bank 90
Note: On 2 July the cash account gives $90 ($150 − $60) and the bank account receives $90.
The cash book is a book of prime entry and the cash and bank ledger accounts all in one.
When we use a cash book, separate cash and bank accounts no longer appear in the ledger.
The cash book is the only book of prime entry that is also part of the double-entry system. It contains debit entries for
cash and bank and credit entries for cash and bank. It keeps the information about cash and bank account entries side
by side. The cash columns are entered in exactly the same way as the bank columns. Cash received is debited, and cash
payments credited, in the cash columns. Bank receipts are debited, and bank payments credited, in the bank columns.
For example, the two separate cash and bank accounts can be replaced with the cash book:
Removing the cash and bank account from the ledger helps to divide the work between a number of employees. One
person could write up the cash book and another person could post the transactions to the appropriate ledger account.
This form of internal control will help to prevent fraud, as one person does not have complete control over all the books
of account. It should also help to locate errors in posting more easily.
 34

3.4 Recording discounts in the cash book

The cash book is also used as the book of prime entry for cash discounts. An additional column on the left side of the
bank account records discounts allowed, and an additional column on the right side records discounts received. This
form of cash book is sometimes known as a three-column cash book as there are three columns of figures on both sides
of the book.

35

When a payment is received from a customer who has deducted a cash discount, enter the amount of the discount in the
discounts allowed column, next to the amount received in the cash or bank column.

TIP

Discounts are listed in the cash book because it is a book of prime entry. Discounts allowed and discounts received
must still have their own separate ledger accounts.

Enter discounts received from suppliers in the discounts received column, next to the amount paid in the cash or bank
column.

WORKED EXAMPLE 5

Continuing with the Worked example of Khor’s business, all receipts from customers and all payments to
suppliers were settled on 12 September through the bank account. In each case, a cash discount of 10% was
allowed to customers and 5% was received from suppliers.
The ledger accounts to record the receipts from the customers and payments to suppliers are shown next.
Receipts and discounts allowed
Anna owes a net total of $250 ($400 + $250 − $350 − $50) before the cash discount is deducted.
Cash discount of 10% is $25 ($ 250 × 0.1)
Anna’s payment is $225 ($250 − $25)
Both the payment made and the discount allowed to Anna are recorded on the credit side of Anna’s account.

Anna account
Debit Credit
 $ $
Sep 6 Sales 400 Sep 7 Sales returns 350
Sep 9 Sales 250 Sep 9 Sales returns 50
Sep 12 Bank 225
Sep 12 Discounts allowed 25
Baron also owes a net total of $250 ($350 − $100) before the cash discount is deducted.
Cash discount of 10% is $25 ($ 250 × 0.1)
Baron’s payment is $225 ($250 − $25)

36

Baron account
Debit Credit
$ $
Sep 8 Sales 350 Sep 9 Sales returns 100
Sep 12 Bank 225
Sep 12 Discounts allowed 25
Payments and discounts received
Bank payments and discounts received are both recorded on the debit side of suppliers’ accounts. Marc and Sam
are suppliers to the business.
Khor owes Marc $800 ($500 + $400 − $100) before the cash discount is deducted.
The cash discount is 5% of $800 = $40
He will therefore pay $760 ($800 − $40)

Marc account
Debit Credit
$ $
Sep 6 Purchases returns 100 Sep 2 Purchases 500
Sep 12 Bank 760 Sep 7 Purchases 400
Sep 12 Discounts received 40
Khor returned all goods bought to Sam, therefore he does not need to make any payment and will not receive any
cash discount.

Sam account
Debit Credit
$ $
Sep 6 Purchases returns 200 Sep 5 Purchases 200
The bank payments and receipts plus the discounts allowed and received are recorded in Khor’s cash book.

Cash account
Debit Credit
 Discounts Cash Bank Discounts Cash Bank
(allowed) (received)
$ $ $ $ $ $
Sep 12 Anna 25 225 Sep 12 Marc 40 760
Sep 12 Baron 25 225
50 40

Note: the receipts from customers are entered on the debit side, together with the discounts allowed relating to
them. Similarly, all the payments to suppliers are recorded on the credit side, together with the discounts received
alongside.
 37

3.5 Posting from the cash book to the discounts allowed and discounts
received accounts
Entries in the discounts allowed and discounts received columns of the cash book are not− part of the double-entry
system in the cash book. They simply list the discounts allowed and received.
The discount columns in the cash book are totalled periodically. The total of the discounts allowed column in the cash
book is posted to the debit of the discounts allowed account. The total of the discounts received column is posted to the
credit of the discounts received account.

WORKED EXAMPLE 6

Continuing with the Khor business example, the postings for the discounts are:

Discounts allowed account

Debit Credit
$ $
Sep 12 Cash book total 50

Discounts received account

Debit Credit
$ $
Sep 12 Cash book total 40
The double entries for the discounts are summarised as follows.
For discounts allowed:
1 debit the discounts allowed with the total of the discounts allowed column in the cash book
2 credit the individual customer’s accounts with the discount allowed to them when they made their payment
For discounts received:
1 debit the individual supplier’s accounts with the discount they permitted you to take when you paid their
account
2 credit the discounts received account with the total of the discounts received column in the cash book

38

ACTIVITY 3.1

Junior had the following credit purchases and purchase returns during the first 10 days of November:

1 Nov Purchased goods from Cora for $10 000 less trade discount of 20%. Cora allowed a 5% cash
discount for payment within 10 days.
2 Nov Purchased goods from Prem for $14 000. Prem allowed a 2% cash discount for payment within
5 days.
4 Nov Returned goods to Cora, cost $400 less trade discount.
5 Nov Purchased goods from Cora for $16 000 less trade discount of 20%. Cora allowed a 5% cash
discount for payment within 10 days.
9 Nov Sent cheques in full settlement of their accounts to Cora and Prem.
Enter the transactions for November in Junior’s books of prime entry and post them to the ledger accounts at 10
November.
 38

3.6 Transfers between bank and cash accounts

A business may move money between cash and its bank account. This is a transaction and must be recorded in the cash
book.
When cash is banked the double-entry for this transaction is:
• debit the bank account
• credit the cash account
When cash is withdrawn from the bank the double-entry for this transaction is:
• debit the cash account
• credit the bank account
This type of posting in the cash book is a contra entry. As an account has been debited (bank or cash) and another
credited (cash or bank) the double-entry has been completed. There is no need to make any other postings in the ledger
to record this.

WORKED EXAMPLE 7

The following transactions took place in Clara’s business for the first week of March:
March
3 Cash sales of $2000.
4 Paid postages of $40 in cash.
5 Banked $1 500 cash.
7 Paid $500 wages from the bank account.

39
The cash book entries are recorded as follows:

Cash book
Debit Credit
Discounts Cash Bank Discounts Cash Bank
(allowed) (received)
$ $ $ $ $ $
Mar 3 Sales 2 000 Mar 4 Postage 40
Mar 5 Cash (C) 1 500 Mar 5 Bank (C) 1 500
Mar 7 Wages 500
Note: C (or ¢) is an abbreviation for ‘contra’, indicating that the double-entry is completed on the opposite sides
of the bank and cash accounts.

ACTIVITY 3.2

Enter the following transactions in Lee’s cash book:

April 1 Cash sales, $1 000.
2 Cash sales, $1 000.
3 Cash sales, $800.
4 Banked cash, $1 400.
5 Stationery paid in cash, $20.
6 Withdrew $900 from bank for the cash float.
7 Cash purchases, $600.
 39

3.7 The journal

All transactions should be recorded in one of the books of prime entry before being posted to the ledger accounts.
These non-regular items require entries in the journal (or general journal).
• opening entries in a new business or new accounting year
• purchases and sales on credit of items for use in the business, e.g. machinery, delivery vans
• corrections of posting errors
• adjustments to accounts (which are dealt with in Chapter 7)
• transfers between accounts.
Each journal entry shows the account to be debited and the account to be credited. The value of the debits and credits
should always be equal.

40

Layout of the journal

Date Details Debit Credit
$ $
Name of account to be debited
Name of account to be credited
The narrative
Although it contains the words ‘debit’ and ‘credit’ (or dr and cr), the journal is not part of the double-entry system. It is
simply a book of instructions, telling the bookkeeper which account in the ledger to debit and which to credit.
 40

3.8 How to make journal entries

The account to be debited is stated above the one to be credited. Every entry should have a narrative.

TIP

Record the debit entry before the credit entry in the journal. This is normal accounting practice.

The journal is an important book and before the entries are posted the owner of the business or a manager should
authorise them.

WORKED EXAMPLE 8

Opening entries in a new business

1 March. Akhona started a new business and put $20 000 into the business bank account.
The journal entry will be:

Date Details Debit Credit

$ $
Mar 1 Bank 20 000
Capital 20 000
Narrative: opening capital for the new
business
After the entry has been made in the journal the debit and credit are posted to the cash book and the capital
account.

Cash book
Debit Credit
Date Details Cash Bank Date Details Cash Bank
$ $ $ $
Mar 1 Capital 20 000

Capital account
Debit Credit
$ $
Mar 1 Bank 20 000

41
Purchase on credit of item for use in the business
4 June. Akhona bought a motor vehicle from A. Smith on credit for $7 000.
The journal entry for this purchase of a motor vehicle for use in the business will be:
Date Details Dr Cr
$ $
Jun 4 Motor vehicles 7 000
A. Smith 7 000
Narrative: Purchase of vehicle registration no.
WE123DSD from A. Smith. See A. Smith invoice
no. A156 dated 4 June.
Note: The narrative gives information to enable Akhona to check on the details later if necessary.

TIP
Post journal entries to ledger accounts only, never to other books of prime entry.

The postings to the ledger accounts are:

Motor vehicles account

Debit Credit
$ $
Jun 4 A. Smith 7 000

A. Smith account
Debit Credit
$ $
Jun 4 Motor vehicles 7 000
Correction of posting error
Akhona discovered that he had credited $100 that he had received from A. Williams on 1 May to an account for L.
Williams in error.
The journal entry to correct the error will be:

Date Details Dr Cr
$ $
May 1 L. Williams 100
A. Williams 100
Narrative: Correction of an error. A remittance
from A. Williams on this date was posted
incorrectly to L. Williams’s account.
Note: L. Williams account is debited because it was previously credited in error. The debit effectively cancels out
the credit.
After the entry has been made in the journal the debits and credits are posted in the ledger accounts.

42
The postings to the ledger accounts are:

L. Williams account
 Debit Credit
$ $
May 1 A. Williams 100

A. Williams account
Debit Credit
$ $
May 1 L. Williams 100

ACTIVITY 3.3

Prepare journal entries for each of the following items.

1 Purchased motor vehicle for use in the business from Paul, which cost $14 000.
2 Purchase of office furniture for the business costing $6 000 has been debited to the purchases account instead
of the furniture account in error.
3 A new business opens with $6 000 of equipment, $3 000 of furniture, $1 000 of stationery. It is paid for with
$10 000 capital.
4 Credit note no. 34, for $170, received from B. Jones, a supplier, has been posted to C. Jones’s account in
error.

REFLECTION

When correcting errors such as in journal entries 2 and 4 in Activity 3.3, how did you work out which account to
debit and which account to credit? What accounting skills did you have to use? Discuss in pairs/small groups
other strategies you could use.

THINK LIKE AN ACCOUNTANT

Businesses need bookkeepers

Worldwide there is high demand by businesses for staff with relevant bookkeeping qualifications, training and
experience. Posts such as sales ledger clerk, finance assistant and cash book supervisor are regularly advertised
along with offers to support employees while they work towards bookkeeping or accounting qualifications.
Consider whether it is better for a business to train their own staff in the bookkeeping skills they require or to
recruit people who already have the skills needed. What are the advantages and disadvantages of each option?
Figure 3.2: Businesses have a high demand for staff with relevant bookkeeping qualifications, training and
experience.
 43

PRACTICE QUESTIONS
1 Gina sold goods on credit for $950 less 20% trade discount. She allowed a cash discount of 2%. Which
amount should be entered in her sales journal?
A $744.80
B $760.00
C $931.00
D $950.00 [1]
2 Sai received an invoice from Jaya for $2 000 less 10% trade discount. Sai has forgotten to enter the invoice
in her purchases journal. What effect will this have on Sai’s accounts?
Jaya’s account Purchases account
Debit Credit Debit Credit
A underadded $1 800 underadded $1 800
B underadded $1 800 underadded $1 800
C underadded $2 000 underadded $2 000
D underadded $2 000 underadded $2 000 [1]
3 Deepak’s transactions for May were as follows:

May 1 Bought goods from Bhanu for $1 000 less 10% trade discount. Bhanu allowed 5% cash
discount.
4 Sold goods to Krish for $2 000 less 10% trade discount. He allowed 5% cash discount.
7 Bought goods from Adya for $900 less 20% trade discount. Adya allowed 5% cash
discount.
8 Purchased equipment on credit from Sanjay for $4 000, invoice no. 156.
14 Returned goods that had cost $100 to Bhanu.
19 Krish returned goods that had cost him $120.
20 Purchased goods from Adya for $1 000 less 20% trade discount. Adya allowed 5% cash
discount.
22 Sold goods to Nour for $2 000 less 20% trade discount. He allowed 5% cash discount.
24 Krish returned goods that had cost him $100.
31 Deepak settled all accounts he owed by cheque and received cheques for all amounts
owing by his customers. All discounts were taken.
Required
a Enter all the transactions for May into the books of prime entry. [10]
b Total the books as at 31 May and post the books of prime entry to the ledger accounts. [14]
4 Explain the difference between the sales journal and the general journal. [4]
 44

SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Explain that financial transactions are recorded in the books of prime entry
before being posted to the ledger accounts.
List and know when to use the books of prime entry: the sales and sales
returns journals, purchases and purchases returns journals, cash book and the
journal.
Explain the purpose of a cash book
Explain that cash discounts are recorded in the cash book then posted to the
discounts allowed and discounts received ledger accounts.
Explain contra entries are made in the cash book when money is transferred
between the bank account and the cash account.
Enter the transactions in the books of prime entry and post to the ledger from
the books of prime entry.

Record discounts allowed and discounts received in the cash book and ledger
accounts.
 45

Chapter 4

Balancing accounts
This chapter covers part of syllabus section AS Level 1.2

LEARNING INTENTIONS
In this chapter you will learn how to:
• demonstrate that all ledger accounts are balanced at least once during a trading period
• demonstrate that cash books have two balances, one for cash and one for bank
• balance ledger accounts that have debit or credit balances
• balance both the cash and bank accounts held in the cash book.

46

ACCOUNTING IN CONTEXT

Know your customers and what they owe

Paul has his own small, specialist engineering business advising companies on designs for new buildings; he
offers a service rather than selling goods. He makes few purchases but does have some regular business customers
that come for advice.
Like many small business owners, Paul knows a lot about the services he offers but less about keeping accounts.
He also finds it difficult to keep his accounts up to date. Paul uses a local bookkeeper to check his ledger accounts
a couple of times a year. The bookkeeper calculates the difference between the debits and credits to balance all the
accounts and reports back to Paul.
Although Paul is happy for most of his accounts to be checked and balanced occasionally, he checks his bank
account more frequently. It is important that he knows how much money is in the business bank account each
month so that he knows whether he can afford drawings for his own personal use.
Every month, Paul checks the accounts of his trade receivables and works out how much his customers owe him.
Paul sends invoices each time he makes a sale, but he also sends statements out to each regular customer monthly.
These statements remind his customers what they have bought, what they have paid for and the outstanding
balance on the account. This reminder often encourages his customers to pay.

Figure 4.1: Many small business owners know a lot about the services they offer, but less about keeping
accounts.

Discuss in a pair or a group:

• Apart from bank and trade receivables, what other accounts is Paul likely to have?
• Why are some of Paul’s accounts only checked a couple of times a year?
• Do you think bank and trade receivables are the most important accounts for all small businesses? Give
reasons for your answer.
 46

4.1 Why accounts need to be balanced

Ledger accounts are usually balanced once a month.
The ledger accounts are balanced to determine how much the business owes other people, how much it is owed and
how much has been received from, or spent on, the various activities.
The cash book is balanced to determine how much money is in the bank account and how much cash the business has.
 46

4.2 How to balance an account

The steps to balancing an account are:
Step 1 Add each sde of the account to find the value of:
i the total debit entries and
ii the total credit entries.
Step 2 Calculate the balance, i.e. the difference between the two totals.
Step 3 Insert the balance on the side with the smaller amount to make both sides equal or, in other words,
balance.
Step 4 Insert the total on each side of the account and carry the balance down to the other side of the
account on the next day.
47

WORKED EXAMPLE 1

Balancing an account with a debit balance

Jai is a customer whose account is as follows.

Jai account
Debit Credit
$ $
Jun 6 Sales 900 Jun 7 Sales returns 300
Jun 10 Sales 3 000 Jun 12 Bank 570
Jun 21 Sales 2 000 Jun 12 Discount allowed 30
To balance Jai’s account at the end of June:
Step 1
Add each side of the account to find the value of the debit and credit entries.
The debit side total is $5 900 ($900 + $3 000 + $2 000)
The credit side total is $900 ($300 + $570 + $30)
Step 2
Calculate the balance. This is the difference between the two totals.
Balance is $5 000 ($5 900 − $900)
Note: the debit side has the higher figure. This means that the account is going to have a debit balance.
Step 3
Insert the balance on the side with the smaller amount to make both sides equal, or, in other words, balance.
 48

TIP

The balances carried down on accounts should always be shown as brought down on the accounts on the next
day.

Step 4
Insert the total on each side of the account and carry the balance down to the other side of the account on the next
day.

Note: the totals of each column ($5 900) are placed level with each other. In bookkeeping nothing is written
against these figures. They are simply the totals of each column.
Jai’s account has a debit balance at the end of June/start of July. This means that he owes the business $5 000 at
this time; he is a trade receivable of the business.

WORKED EXAMPLE 2

Balancing an account with a credit balance

Deeba is a supplier whose account has been balanced at the end of May.

Deeba account
Debit Credit
$ $
May 8 Purchases returns 1 000 May 1 Balance b/d 500
May 29 Bank 1 470 May 5 Purchases 2 000
May 29 Discount 30 May 26 Purchases 3 000
May 31 Balance c/d 3 000
5 500 5 500
Jun 1 Balance b/d 3 000
Note: the balance b/d at 1 May means that there were entries in the account before May that are not shown. The
account was balanced at the end of April resulting in an opening balance on 1 May of $500 cr.
Calculations to balance Deeba’s account at 31 May:

49
Step 1
The debit side total is $2 500 ($1 000 + $1 470 + $30)
The credit side total is $5 500 ($500 + $2 000 + $3 000)
Step 2
Balance is $3 000 ($5 500 − $2 500)
Note: the credit side has the higher figure.
Deeba’s account has a credit balance. This shows that Deeba is owed $3 000 at the end of June; she is a trade
payable of the business.

WORKED EXAMPLE 3

Balancing an account with only one entry on each side

Hannah is a customer whose account is as follows.

Hannah account
Debit Credit
$ $
Jun 7 Sales 800 Jun 14 Bank 800
Note the underlining of the entries on both sides. There is only one entry on each side and they are equal, so there
is no balance to carry down and it is acceptable to rule off the account in this way.

WORKED EXAMPLE 4

Balancing an account with equal entries each side

Aidan is a customer whose account for June is as follows.

Aidan account
Debit Credit
$ $
Jun 1 Balance b/d 300 Jun 24 Bank 1 500
Jun 9 Sales 400
Jun 17 Sales 800 ____
1 500 1 500

Note: the totals are underlined on both sides. When there is more than one entry on at least one side, and they are
equal, there is no balance to carry down, so it is acceptable to total and rule off the account in this way.

50

WORKED EXAMPLE 5

Balancing an account with an entry on one side only

a Maya is a supplier to a business. Her account is balanced at the end of August as shown.

Maya account
Debit Credit
$ $
Jul 31 Balance c/d 3 500 Jul 10 Purchases 3 500
Aug 1 Balance b/d 3 500

The account was balanced by entering the balance carried down (c/d) on the debit side. The balance was
brought down the next day to the credit side.
The only entry made in the account before it was balanced was the purchase of goods for $3 500.
Maya’s account has a credit balance. This shows that Maya is owed $3 500 at the end of July; she is a trade
payable of the business.
b Office furniture account is balanced as shown.

Office furniture account

Debit Credit
$ $
Jul 4 Bank 6 000 Jul 31 Balance c/d 6 000
Aug 1 Balance b/d 6 000
 The account was balanced by entering the balance carried down (c/d) on the credit side.
The balance was brought down the next day to the debit side.
The only entry made in the account before it was balanced was the purchase of furniture for $6 000.
The office furniture account has a debit balance, which shows that the business owns furniture costing $6
000.

51

WORKED EXAMPLE 6

Balancing the three-column cash book

Balancing the three-column cash book is done as shown.

Cash book
Debit Credit
Disc Cash Bank Disc Cash Bank
$ $ $ $ $ $
May 1 Balances 100 740 May 3 Postage 200
b/d
May 3 Sales 440 May 5 Bank C 200
May 4 J Stores 15 300 May 6 G Lee 20 520
May 5 Cash C 200 May 6 Purchases 160
May 7 A Ltd 10 230 May 7 Cash C 400
May 7 Bank C 400 May 7 Wages 300
_____ _____ _____ May 7 Balances _____ 80 550
25 940 1 470 20 940 1 470
May 8 Balances 80 550

TIP

If a business does not keep a cash book, then the bank account and the cash account will be balanced in the
same way as any other ledger account.

TIP

Remember from Section 3.4 (Recording discounts in the cash book) that the discount columns are not
balanced. The totals are posted to the discounts allowed and discounts received accounts.

Both the cash and the bank accounts have debit balances. This means that the business has $80 in cash and $550
in the bank account at the start of 8 May.
Balances in the cash account are always debit balances. There can never be a credit balance in the cash account
because receipts must be equal to, or greater than, payments, i.e. it is not possible to have a negative amount of
cash.
It is possible to have a credit balance in the bank account. It happens when payments are greater than receipts. In
this case it means that the business has a negative amount of money in the bank. This is called an overdraft.

ACTIVITY 4.1

Jana’s business has opening balances at 1 October of $1 000 cash and $2 500 in the bank account. There are no
balances on any other accounts. She has the following transactions for the first week of October:
October $
1 Jana put her own money into the business bank account 8 000
2 Bought goods for resale on credit from Dev 5 000
2 Paid rent by debit card 1 000
4 Sales on credit to Yash 3 000
4 Cash sales 700
5 Put cash into bank account 500
6 Paid Dev money owed by cheque, after deducting a 5% cash discount
6 Paid for stationery by cash 30
a Prepare the ledger accounts and cash book to record the transactions.
b Balance the accounts at 7 October and bring down the balances.

52

REFLECTION

When answering Activity 4.1, why did you find some accounts more straightforward to balance than others? Did
you use a different approach when balancing the cash and the bank accounts in the cash book?
 52

4.3 When are accounts balanced?

Each business will make its own decision about how often their cash book should be balanced. Typically, the cash book
may be balanced at weekly intervals in small businesses and daily in large ones because it is always important to know
how much money is in the bank account. A business that relies heavily on cash may choose to balance even more
frequently.
Accounts for customers and suppliers are balanced monthly because of the practice of sending and receiving statements
of account. The statements are copies of the accounts of customers in the sellers’ books and are sent to customers so
that they can check their ledger accounts with those of their suppliers. Any differences can be queried and an agreement
reached between supplier and customer. The statements also remind customers that payment of outstanding balances is
due.
The other accounts are balanced as and when required; this will always be when a trial balance is being prepared. Trial
balances are explained in Chapter 6.

ACTIVITY 4.2

Some ledger accounts have debit balances; other ledger accounts have credit balances.
a List the accounts that have debit balances. Do the same for accounts that have credit balances.
b In small groups, compare your lists to see whether you agree.

THINK LIKE AN ACCOUNTANT

What’s it worth?
Balancing accounts allows a business to know the value of what it owns or owes. As individuals we could do this
too, but would it be useful for us?
Consider how you feel if you own, or might own, a valuable asset such as a house? Would you want to know what
it’s worth? If you have a loan to help you buy the house, would you want to know how much you owe at any point
in time?
How do you feel about owning items that are less valuable such as a pen or a book? Would you still be interested
to know its worth? If not, why not?
Figure 4.2: If you owned a valuable asset such as a house, would you want to know what it's worth?
 53

PRACTICE QUESTIONS
1 Which of the following accounts is most likely to have a credit balance?
A capital
B discounts allowed
C office equipment
D rent [1]
2 When must the balance of each account be known?
A each day
B each week
C when a bookkeeper is available
D when a trial balance is being prepared [1]
3 Balance the following accounts at the end of September:

Discounts allowed account

Debit Credit
$ $
Sep 1 Balance b/d 60
Sep 30 Cash book 174

Discounts received account

Debit Credit
$ $
Sep 1 Balance b/d 110
Sep 30 Cash book 20

J and P Ltd account

Debit Credit
$ $
Sep 8 Purchases returns 240 Sep 1 Balance b/d 700
Sep 29 Bank 500 Sep 15 Purchases 640

A and B Ltd account

Debit Credit
$ $
Sep 7 Sales 450
Sep 18 Sales 300
Sep 21 Sales 400
 54

George account
Debit Credit
$ $
Sep 12 Sales 2 300 Sep 28 Bank 2 208
Sep 28 Discounts allowed 92

Motor vehicles account

Debit Credit
$ $
Sep 4 Bank 12 000

Cash account
Debit Credit
$ $
Sep 4 Capital 800 Sep 7 Stationery 45
Sep 23 Sales 100 Sep 24 Sales returns 20
Sep 26 Wages 200

Bank account
Debit Credit
$ $
Sep 1 Balance b/d 3 000 Sep 8 Motor vehicle 5 000
Sep 5 Sales 450 Sep 25 Purchases 200
Sep 9 Purchases returns 50 Sep 25 Sales returns 100 [8]

4 Explain why trade receivables accounts have debit balances while trade payables accounts have
credit balances. [2]
 54

SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Explain that all ledger accounts are balanced at least once during a trading
period.
Explain that cash books have two balances, one for cash and one for bank.
Balance ledger accounts that have debit or credit balances.
Balance both the cash and bank accounts held in the cash book.
 55

Chapter 5

The classification of accounts

and division of the ledger
This chapter covers part of syllabus section AS Level 1.3

LEARNING INTENTIONS
In this chapter you will learn how to:
• classify ledger accounts into assets, liabilities, income, expenses, capital and drawings
• sub-divide assets into non-current assets and current assets; sub-divide liabilities into non-current liabilities
and current liabilities
• group accounts in terms of personal accounts and impersonal accounts
• divide the accounts into several ledgers, each containing transactions of a similar nature
• classify accounts and divide the ledger to improve the organisation of accounting information and reduce the
likelihood of errors.

56

ACCOUNTING IN CONTEXT

Anyone for coffee?

Nisha owns and runs a mobile coffee business. She set up five years ago with a van that she fitted with storage,
fridge and coffee making equipment. She sells many types of coffee and other hot and cold drinks and snacks.
She started with one van in a market in town that she operated herself. It is successful with lots of regular
customers who enjoy her coffee and excellent service. Nisha has steadily grown the business. She now owns
several similar vans operated by employees in neighbouring towns. The vans can also sell its products at shows
and events.
Nisha is well organised. When the business first started, she only needed a few accounts, which were kept in one
ledger. As the business grew, she found that the number of transactions and accounts needed also grew. Eventually
Nisha bought an accounting software package that kept all the supplier accounts together in a purchases ledger.

Figure 5.1: Nisha has steadily grown her mobile coffee business and now owns several similar vans in
neighbouring towns.

Discuss in a pair or a group:

• List items that Nisha’s business is likely to own. Split your list into those items the business will keep for
more than one year and those items the business will keep for one year or less.
• What ledger accounts might Nisha’s business use?
• Why might it be useful for a business to keep all its supplier accounts together?
 56

5.1 Classification of accounts

Businesses have many ledger accounts. Accounts that have transactions of a similar nature will be treated in a similar
way in the ledgers.

TIP

It is useful to learn which types of account typically have debit balances and which have credit balances. This will
help with your double-entry skills.

It can be helpful to group accounts together into categories that have similar features.
The main groups are:

57

Assets

Assets including vehicles can be owned by a business; trade receivables owe money to a business.
Assets are further subdivided into:
• Non-current assets, for example property, machinery, vehicles, office furniture and equipment. These assets are
intended to be used in the business for more than one year.
• Current assets, for example inventory and trade receivables. These assets will be turned into cash within one
year.
Asset accounts have debit balances.

Liabilities
Liabilities, for example loans, trade payables and overdrafts, are split into:
• Non-current liabilities, i.e. amounts owing that do not have to be paid within one year, such as a long-term loan.
• Current liabilities, i.e. amounts owing that must be paid within one year, such as trade payables and bank
overdrafts.
Liability accounts have credit balances.

Income

This group includes revenue from sales and other income. Other income can be from rent receivable, discounts
received and interest receivable.
Income accounts have credit balances.

Expenses

Expenses accounts are items such as rent, wages, salaries, heating and lighting, postage and stationery. These are costs
that are incurred in running the business on a day-to-day basis.
Expense accounts have debit balances.

Capital and drawings

The owner’s capital and drawings accounts do not fit neatly into these categories but are equally important.

58

The capital account will have a credit balance and the drawings account will have a debit balance.
The balances for the types of account are summarised as follows:

Types of account with debit balances Types of account with credit balances
Expenses Liabilities
Assets Income
Drawings Capital

ACTIVITY 5.1

Complete the table, ticking the boxes that describe the given accounts in the books of a business.
The first one is completed for you.
 Account Asset Liability Revenue or other Expense
income
Delivery vehicles ✓
Rent
Loan
Interest received
Interest paid
Trade receivables
Inventory
Discounts allowed
Postage
Bank
Rent receivable
Trade payables
Computers
Wages
Discounts received

KEY CONCEPT LINK

A true and fair view: Organising the information in the accounts makes it easier to work out the value of a
business’s assets, liabilities and other types of account. This helps owners, lenders, accountants or anyone else
who sees the information to get a true and fair view of the business.

An alternative way that accounts can be classified is to put them into one of two classes: a personal account or an
impersonal account.
a Personal accounts include:
59

• accounts for trade receivables

• accounts for trads payables
• the owner’s capital and drawings accounts.
b Impersonal accounts include:
• asset accounts including both non-current and current assets
• nominal accounts, which include expenses accounts, revenue accounts or accounts with credit balances.
 59

5.2 Division of the ledger

It was explained in Chapter 1 that a ledger is a book (or computer file) containing accounts. Except in very small
businesses, there are too many accounts to be kept in a single ledger. It is usual to divide the accounts among several
ledgers.

Ledger Use
Sales ledger For the accounts of customers that buy on credit.
Purchases ledger For the accounts of suppliers from whom the business buys on credit.
General (or nominal) For assets, liabilities, revenue and other income, expenses and capital.
ledger
Private ledger For accounts of a confidential nature, such as the owner’s capital and drawings accounts and
loan accounts; also the statements of profit or loss and statements of financial position (see
Chapters 7 and 8).
Cash book For the bank and cash accounts.
Businesses do not need to use all the ledgers listed. Businesses will choose to use the ones that are useful to them. For
example, the business owners might want to keep a private ledger as they would not want their employees to know how
much the business had borrowed, or how much profit the business makes and how much the owner has taken from the
business as their private drawings. Other business owners choose not to have a separate private ledger but will keep
these accounts within the general ledger.
The division of the ledger is essential in a business that employs several bookkeepers, as the work may be divided
between them so that they do not all need to be working on the same ledger at the same time. It makes sense to group
items of a similar nature, for example all sales are together in one ledger, the sales ledger. This allows staff to be trained
in different aspects of the business. Most importantly, it helps to detect and prevent errors occurring in the books of
account. It may also help to detect and prevent fraud by the accounts staff. This is a form of internal control.

TIP

Although individual customer accounts are in the sales ledger, the sales account itself is in the general ledger.
Equally, supplier accounts are in the purchases ledger, but the purchases account is in the general ledger.

60

ACTIVITY 5.2

In which ledger would you expect to see the following accounts?

The first one is completed for you.

Ledger
Motor vehicles General
Capital
A customer who buys goods on credit
Supplier of office equipment
Bank
Wages
Sales

REFLECTION

When answering Activity 5.2, how did you decide on the correct ledger? Explain to another learner how you
made your choices. Was your knowledge of classifying accounts into assets or liabilities etc. useful when
choosing the appropriate ledger?

ACTIVITY 5.3

Complete the following sentences by inserting the correct word from the following list:

non-current expense purchases general sales

a The ________ ledger contains the accounts of suppliers from whom the business buys on credit.
b The heating and lighting account is stored in the ________ ledger and is an example of a ________ account.
c Goods bought on credit are recorded in the ________ ledger.
d A ________ asset is bought for use in the business for a long period of time.

THINK LIKE AN ACCOUNTANT

It’s good to be organised

Classifying accounts into types with similar features helps with their organisation. This makes it easier to track the
value of a business’s assets and liabilities and to assess whether its revenue is greater than its expenses.
Grouping information into types is not just done in accounting; it’s done in many ways that people come across in
both their personal and working lives. Examples of organising information include books in a library, clothes of
different size and style in a shop and organising your study notes into topics.
Imagine being in a book shop or library where the books were not organised. What might be the consequences?
Think of three more examples of information that you have seen grouped into types. What possible advantages
come from organising information? Can you think of any disadvantages?

Figure 5.2: Classifying accounts can make it easier to track the value of a business’s assets.
 61

PRACTICE QUESTIONS
1 Which account is most likely to be kept in a private ledger?
A drawings
B interest received
C rent
D sales [1]
2 How should cash discounts be classified?
Discounts allowed Discounts received
A asset liability
B expense income
C income expense
D liability asset [1]
3 Explain why it can be useful to group accounts into different categories. [4]
4 Discuss why a business may use more than one ledger. [6]
 61

SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Classify ledger accounts into assets, liabilities, income, expenses, capital and
drawings.
Sub-divide assets into non-current assets and current assets; sub-divide
liabilities into non-current liabilities and current liabilities.
Group accounts in terms of personal accounts and impersonal accounts.
Divide the accounts into several ledgers, each containing transactions of a
similar nature.
Classify accounts and divide the ledger to improve the organisation of
accounting information and reduce the likelihood of errors.
 62

Chapter 6

The trial balance

This chapter covers part of syllabus sections AS Level 1.2 and 1.4

LEARNING INTENTIONS
In this chapter you will learn how to:
• demonstrate that a trial balance is a list of the balances on each account extracted from the ledgers at a
particular date
• ensure that in any trial balance, the total of the debit balances equals the total of the credit balances
• work out that if the debit and credit totals are not equal then there must be at least one error
• demonstrate that if the debit and credit totals are equal then the trial balance may be correct
• make checks to help find trial balance errors.

63

ACCOUNTING IN CONTEXT

Big business needs accurate accounting

Unilever is one of the world’s largest producers of consumer goods. It manufactures a wide range of products
from food and refreshments to personal and home care. Unilever owns many well-known brands including
Magnum, Dove, Lipton and Lux. These goods are sold in over 190 countries.
Like other large companies, Unilever produces an annual report that summarises its finances. Unilever’s report for
2018 showed that its profit before taxation rose to over $13 billion and its total assets were worth about $66
billion. Many transactions and bookkeeping entries underlie these figures. Unilever requires a carefully thought-
through accounting system. This reduces the likelihood of errors and fraud, giving confidence that the figures in
the annual report provide a true and fair view of the finances for the business.
Producing a trial balance is an important part of any robust accounting system and can help to find some of the
most common mistakes that can occur when recording transactions.

Figure 6.1: Unilever owns many well-known brands including Magnum, Dove, Lipton and Lux.

Discuss in a pair or a group:

• What is fraud? Have a look in a dictionary or do an internet search to find out.
• What kind of errors do you think bookkeepers might make when entering transactions into books of prime
entry and ledger accounts?
• Why is it important that businesses of all sizes are concerned with avoiding errors in their accounts?
 63

6.1 What is a trial balance?

In Chapter 3, we saw that the documents used in transactions, such as invoices and credit notes, are recorded in the
books of prime entry and then posted to the accounts. This chapter introduces the next step: preparing a trial balance.

64

The principle of double-entry determines that the debit balances and credit balances should agree. If the totals do not
agree there must be an error somewhere in the bookkeeping.
The size of the business affects how often a trial balance is prepared. All businesses must prepare a trial balance at least
once a year so that it can be used to produce the financial statements (see Chapters 7 and 8). For a sole trader, once a
year is probably enough. For a large company it would be more usual to prepare a trial balance at least every month in
order to prepare monthly reports for managers that help in making decisions about the business.
If the accounts are kept using a computerised accounting system, a trial balance can be prepared easily at any time
simply by using the function in the accounting package.
 64

6.2 How to prepare a trial balance

The steps to prepare a trial balance are:

Step 1 Balance all the ledger accounts including the cash book (see Chapter 4).
Step 2 List all the accounts putting the debit balances in one column and the credit balances in another column.
Step 3 Add up the debit column and add up the credit column. The total of the debit balances should equal the
total of the credit balances. If the totals are equal, the trial balance agrees.

TIP

Any account that does not have a balance, where the value of the debit and credit entries are the same, is not
included in the trial balance.

WORKED EXAMPLE 1

Darsha has balanced the accounts in her ledgers at 31 March 2021.

The following accounts have debit balances:
motor vehicles $25 000; machinery $15 000; office furniture $8 000; purchases $22 000; sales returns
$1 000; rent payable $16 000; wages and salaries $12 000; heating and lighting $900; insurance $1 800;
cash $1 200; bank $4 700; drawings $6 000.
She also has total trade receivables of $4 600. This is the total of all the balances on the customer accounts in the
sales ledger.
The following accounts have credit balances:
sales $68 000; purchase returns $2 000; bank loan $12 000; capital $33 000.
She also has total trade payables of $5 000. This is the total of all the balances on the supplier accounts in the
purchase ledger.
Prepare a trial balance for Darsha at 31 March 2021.
Step 1
Balance the accounts. The balances have been provided in the question.

65
 TIP

It is vital that the correct date be given in the title of the trial balance. This confirms the date at which all the
accounts have been balanced and will be relied on when producing the financial statements (see Chapters 7 and
8).

The total of the debit balances and credit balances agree at $120 000. The trial balance balances. This means that
for every debit entry made in the ledgers, an equal and opposite credit entry has been made in the ledgers. This
helps to confirm the accuracy of the bookkeeping.
Note: the total trade receivables figure goes in the trial balance instead of all the individual customer account
balances, and the total trade payables figure goes in the trial balance instead of all the individual suppliers account
balances. This helps to reduce the number of accounts in the trial balance. This is explained further in Chapter 14.

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KEY CONCEPT LINK

Duality: Double-entry means that for every debit entry made in the ledgers, an equal and opposite credit entry has
been made in the ledgers. As a result, a correctly drawn up trial balance will always show that the totals of the
debit balances and credit balances agree.

ACTIVITY 6.1

Prepare a trial balance from the following balances that have been extracted from the books of a small online
retailer at 31 December.

$
Property 100 000
Motor vehicles 18 000
Office furniture 14 000
Computer 2 000
Sales 40 000
Sales returns 600
Purchases 6 000
Purchases returns 500
Motor vehicle expenses 4 000
Advertising 1 600
Office expenses 1 000
Stationery 400
Cash 200
Bank 300 (credit)
Capital 110 000
Drawings 3 000

REFLECTION

When answering Activity 6.1, you were not told which accounts had debit balances and which accounts had credit
balances. Explain to another learner how you decided whether each account was debit or credit. You were told
that the bank account had a credit balance; why was this necessary?
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6.3 Benefits of a trial balance

The trial balance is an essential link between the ledger accounts and the financial statements of a business. The main
benefits of a trial balance are as follows:
1 To check that the total of the debit balances equals the total of the credit balances.
2 It will help to uncover many types of error in the ledger accounts and can make it easier to find and correct the
errors (see Chapter 15).
3 To provide a summary of all the ledger accounts and their balances in one document.
4 It is used for preparing the financial statements (see Chapters 7 and 8).
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6.4 Limitations of a trial balance

If the debit and credit totals in a trial balance do not agree (they are different), there must be at least one mistake
somewhere in the bookkeeping.

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If the debit and credit totals in a trial balance do agree (they are the same), it proves that for every debit entry an equal
credit entry has been made. Unfortunately, there can still be errors!
There are six types of error that can occur even when the debit and credit totals in the trial balance agree. They are as
follows:

Type of error Explanation Example

Errors of omission A financial transaction omitted $100 of equipment is bought for cash. The transaction is
completely from the books results forgotten and not entered in the equipment or the cash
in there being neither a debit nor a account.
credit entry for the transaction.
This could happen if a transaction
is not entered in a book of prime
entry.
Errors of commission A financial transaction is posted The payment for stationery is posted in error to the
with the correct amount to the advertising account. Stationery and advertising are both
correct side of the wrong account, classed as expenses.
but the account is in the same
class.
Errors of principle A financial transaction is posted Payment for fuel for a vehicle has been debited to the
with the correct amount, to the motor vehicles account instead of the motor vehicles
correct side of a wrong class of running expenses account. Motor vehicles expenses are
account. classed as expenses while the motor vehicles are non-
current assets.
Errors of original A wrong amount is entered in a A purchase invoice for $100 is entered in the purchases
entry book of prime entry for a financial journal as $10.
transaction.
Complete reversal of An account that should have been A payment made to Sam is debited to the bank account
entries debited has been credited, and the and credited to Sam’s account.
account that should have been
credited has been debited.
Compensating errors Two or more errors that cancel An invoice for $1 200 in the sales journal is posted to the
each other out. customer’s account as $1 000. At the same time, the sales
journal total is underadded (too low) by $200. The debit
balance on the customer’s account and the credit balance
on sales account will both be underadded by $200.
Note: a number that is underadded is incorrect and is smaller than the correct figure. A number that is overadded is
also incorrect but is larger than the correct figure.
It is important to consider these six types of error. When errors are found they must be corrected using the journal (see
Section 3.7). If errors are not corrected, then they will result in inaccurate figures in the accounts.

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 ACTIVITY 6.2

State which type of error each of the following represents:

Type of error
1 A customer’s invoice has been omitted from the sales journal.
2 A purchase of goods for $100 has been entered in the purchases journal as $1 000.
3 Discount received from Marie has been debited to Maya’s account.
4 Payment of advertising has been debited to the bank account and credited to the
advertising account.
5 Entries were $100 too high (overadded) on both the heating and lighting account and
the sales account.
6 Entries were $50 too high (overadded) on the heating and lighting account and $50
too low (underadded) on the rent payable account.
7 The purchase of office furniture has been debited to the office expenses account.

TIP
Learn the six types of error that do not affect the trial balance. You must be able to give examples of them.
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6.5 What to do if the trial balance fails to agree

If the debit and credit totals on a trial balance are not the same, then there must be an error. If errors are not corrected,
they will result in inaccurate figures in the financial statements.
There are many different possible reasons for errors. It is worthwhile carrying out some simple checks first before
spending a lot of time checking all your postings.
Simple checks to find trial balance errors:
1 Check the additions of the trial balance.
2 Check that all accounts have been entered in the trial balance and are correctly entered in the debit or credit
column.
3 If the difference between the debit and credit totals is divisible by nine, two figures may have been transposed in a
balance (e.g. $269 may have been copied as $296).
4 If you still haven’t found the cause of the imbalance, go back to the start and check the balances on each of the
accounts and that you have transferred them correctly to the trial balance.
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ACTIVITY 6.3

An inexperienced bookkeeper has extracted the trial balance at 31 December 2021. It does not balance.
Rewrite the trial balance and correct the errors.

Trial balance at 31 December 2020

Account Debit balances Credit balances
$ $
Plant and machinery 50 000
Loan from David 10 000
Office equipment 10 000
Wages 9 400
Rent and rates 3 000
Cash 1 200
General expenses 2 200
Sales 97 000
Purchases 60 000
Discounts allowed 460
Discounts received 360
Bank 3 000
Trade receivables 11 000
Trade payables 6 000
Purchases returns 600
Sales returns 800
Rent receivable 1 400
Capital 70 000
Drawings _______ 34 300
157 960 212 760

THINK LIKE AN ACCOUNTANT

Attention to detail
When employers want to recruit new workers, they often provide a person specification to potential applicants as
well as other information about the job. A person specification states the personal qualities and skills that the
employer is seeking in the successful applicant.
The qualities sought when selecting a new bookkeeper or accountant will vary from business to business.
However, the nature of the work means that there are some qualities that are very commonly found in person
specifications for accounting staff. These include attention to detail, being well organised and having good
communication skills. Why do you think that attention to detail is an important skill for a bookkeeper? What other
skills do you think would be useful for a bookkeeper to have and why?

Figure 6.2: Attention to detail, organisation and communication are all highly valued skills in the field of
accounting.
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PRACTICE QUESTIONS
1 An invoice has been recorded in J. Smith’s account instead of A. Smith’s account. What type of error has
occurred?
A commission
B compensating
C original entry
D pinciple [1]
2 Discounts received of $100 for January have been posted to the debit of the discounts allowed account
instead. What effect has this had on the trial balance?
A $100 too little debit and $100 too much credit
B $100 too much debit
C $100 too much debit and $100 too little credit
D no effect on the trial balance [1]
3 Which of the following is not a reason to prepare a trial balance?
A to check that the total of the debit balances equals the total of the credit balances
B to help find errors in the accounts
C to increase the sales of a business
D to prepare monthly reports for managers [1]
4 The following balances at 31 December 2021 have been extracted from Lee’s books.

$
Sales 120 000

Sales returns 1 800

Purchases 76 000

Purchases returns 3 000

Wages and salaries 30 000

Heating and lighting 4 400

Rent payable 8 000

Rent receivable 2 000

Travelling expenses 3 400

Telephone expenses 2 400

Discounts allowed 1 000

Discounts received 700

Plant and machinery 60 000

Cash 400

Bank 3 200 (debit)

Trade receivables 18 000

Trade payables 15 500

 Loan from Ting 10 000

Drawings 6 000

Capital ?

Prepare a trial balance at 31 December 2021 for Lee’s business and calculate the balance on his
[8]
capital account.
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SELF-EVALUATION CHECKLIST
After studying this chapter, complete a table like this:

Needs
Almost Ready to
You should be able to: more
there move on
work
Explain that a trial balance is a list of the balances on each account extracted
from the ledgers at a particular date.
Ensure that in any trial balance, the total of the debit balances equals the total
of the credit balances.
Work out that if the debit and credit totals are not equal then there must be at
least one error.
Work out that if the debit and credit totals are equal then the trial balance may
be correct.
Make checks to help find trial balance errors.